Under funded terminating DB plan

[Guest RSNOW]

Forgive me for not posting in the plan termination forum but this forum seems to be more active. I have an non-PBGC covered plan where the employer wants to terminate and pay out only "to the extent funded". I'm aware of the need to allocate asets under PBGC priority categories under ERISA 4044, and IRC 411(d)(3) and Rev. Ruling 80-229 have comments on the subject I believe, but I'm still a little unsure if a participant elects an annuity (vs. lump sum to extent funded) is the plan only obligated to use the priority amounts allocated under ERISA 4044 to purchase as much of an annuity as the priority categories can buy ? or is the annuity benefit a protected 411(d)(6) benefit and only the lump sum is eligible for a reduced payout ? Thanks in advance for any thoughts or opinions on the matter.

[Guest pension222]

I think that first you will find differences of opinion as to if the client really wants to pay everyone a pro-rata portion of his or her accrued benefit. I have typically seen the non-HCEs paid their entire accrued benefit and with the HCEs taking the shortfall. I know the code allows for something different but this has been what I have seen done in practice.

[Guest Keith N]

In general, I would say that only owners would be permitted to waive benefits. Even at that, I don't think the IRS likes to see it.

Maybe MGB will respond and shed some light.

[david rigby]

Even if the plan is not covered by the PBGC, the plan language may already address this.

[Guest merlin]

The IRS doesn't consider this a waiver, since waivers are not permitted. They consider it a reallocation of assets to the extent available. I believe their reasoning is that a waiver (if one was permitted) would be for a fixed amount. The amount of the reallocation can fluctuate, depending on dya-to-day changes in the asset value.

[AndyH]

But unless non-owners get 100%, it isn't a standard termination anyway, right? How can you do a standard termination "to the extent funded"? I think you can't, so you have a distress termination, and the PBGC will come in and sell the sponsor's assets to make it funded, it seems to me. Or am I missing something?

[Guest dsyrett]

You can have a PBGC standard term with the owners getting less than their full benefits. This is an accepted concept.

For non-PBGC underfunded plans, I have had general success getting approval (via Form 5310) for a pro-rated allocation of assets to all. My document allows for it.

Just this month I had a reviewer insist on non-highly comps getting their full benefits and having the highy comps taking the hit. I might have tried to fight it (my plan allowed for it) but the dollars on the table were insignificant.

[Guest RSNOW]

Andy I don't think there is a standard termination concept when the plan is not PBGC covered. I think that just applies to PBGC covered plans. I have also sought IRS approval on plan terms before (non-PBGC plans) with a pro-rata distribution allocations and have received IRS approval. I guess I just never had anyone express interest in an annuity before in conjunction with a pro-rata plan term (non-PBGC) so I was unsure if a pro-rata allocation would also apply to an annuity purchase, but it sounds like the pro-rata issue is the same regardless of form of benefit (i.e., no difference). Let me know if anyone disagrees as I could easily be wrong.

[AndyH]

Sorry, (duh) my lousy speed reading skills did not allow the non-PBGC disclosure to register, so yes of course there is no "Standard" or "Distress". Sorry for the confusion.

I don't get involved in many non PBGC terminations, but it was my understanding that only an owner could receive less than 100%. Interesting.

[Blinky the 3-eyed Fish]

Dsyrett, I am curious how you were able to do a pro rata allocation of assets in an underfunded plan and that your document allows for it. That would seem to violate Rev. Rul. 80-229.

[KJohnson]

I haven't looked at this for a year or so, but I thought that under 80-229 you first allocated under categories 4044(a)1 through 4044a(4)(A) and that the non-discrimnatory allocation didn't "kick in" until you got to 4044(a)(4)(B) or below. Therefore, if your HCE's were in the higher categories, they could conceivably receive 100% of their benefit while NHCE's were only receiving a portion. Here is the language from 80-229

(1) Except as provided in paragraph (4), the assets of a plan are allocated in accordance with sections 4044(a)(1), (2), (3), and (4)(A) of ERISA.

(2) Subject to the requirements of paragraph (1), the assets shall be allocated, to the extent possible, so that the rank and file employees receive from the plan at least the same proportion of the present value of their accrued benefits (whether or not nonforfeitable) as employees who are officers, shareholders, or highly compensated.

(3) Notwithstanding any other paragraph, in the case of assets restricted by section 1.401-4© of the regulations, assets may be reallocated to the extent necessary to help satisfy paragraph (2).

(4) In the case of a plan establishing subclasses within the meaning of section 4044(b)(6) of ERISA, the assets within any paragraph of section 4044(a) of ERISA may be reallocated within such paragraph to the extent that such reallocation helps to satisfy paragraph (2).

(5) Subject to paragraphs (1), (2), (3), and (4), the assets shall be allocated in accordance with section 4044(a)(4)(B), (5), and (6) of ERISA.

I agree with Blinky, I don't know how you could do a "flat" proration under this language.

[Blinky the 3-eyed Fish]

K, Section 4.02(2), which you quote, prevents that from happening. At a minimum the NHCE's must receive the same pro rata portion.

By the way, I am wondering if Dsyrett's pro rata allocation was just the end result, but that the hoops of Rev Rul 80-229 were jumped through first.

[KJohnson]

Blinky, I may be confused, but I thought you only reallocate to avoid discrimination on benefits at 4044(a)(4)(B) or below, if it is above this level you don't need to reallocate. That is why 4.02(2) begins with the phrase--"Subject to" paragraph 1... 80-229 goes on to give an example of the HCE receiving 50% and the NHCE receiving 16 2/3%.

Example 1. A plan described in subsection .01 which provided benefits on an ongoing basis as of the date of termination that were not discriminatory within the meaning of section 401(a)(4) of the Code, terminates. The plan has two employees: A, an officer of the company, and B, a rank and file employee. The value of plan assets as of the date of termination is $130,000 which would, without regard to this section, be allocated to the employees under section 4044(a) of ERISA as follows:

Paragraph of

section 4044(a) Allocation to Allocation to

of ERISA Employee A Employee B

--------------- ------------- -------------

(3) $120,000 0

(4)(A) 0 0

(5) 10,000 0

(6) 0 0

-------------

$130,000

The present value of A's and B's accrued benefit on the date of termination, whether or not nonforfeitable, is $240,000 and $60,000, respectively. The limits described in section 1.401-4© of the regulations do not apply.

The proposed distribution described in section 4044(a) of ERISA would not satisfy section 4.02(2) of this revenue ruling because (1) employees who are officers, shareholders or highly compensated would receive 54% ($130,000)/ ($240,000) of the present value of their accrued benefit whether or not nonforfeitable and the rank and file employees would receive 0% and (2) there are assets in paragraphs (4)(B), (4) or (6) of section 4044(a) of ERISA to be reallocated to minimize the discrimination. The $10,000 allocated in paragraph (5) to A should be reallocated to B. A would then receive $120,000 (50% of the present value of his accrued benefits whether or not nonforfeitable) and B would receive $10,000 (16 2/3% of the present value of his accrued benefits whether or not nonforfeitable). This distribution would be deemed nondiscriminatory because the assets have, in accordance with section 4.02(2) of this revenue ruling, been allocated to the extent possible to preclude discrimination

[Blinky the 3-eyed Fish]

Your are correct. Most of my plans have owners that have no where near 30 YOP and don't have large guaranteed benefits, so they end up having to waive if assets are not sufficient.

[Guest pension222]

I just want to make sure that I am on track with this discussion.

Do the provisions of Revenue Ruling 80-229 apply to plans NOT subject to PBGC?

Interestingly enough Section 4.03, Example 3 describes a situation where a pro-rata distribution between one HCE and one NHCE is not allowed, the NHCE gets it all.

It appears that the provisions of 80-229 allow the plan to pay NHCEs their entire PVABs and then distributing the remaing assets (if any) pro-rata to the HCEs.

[KJohnson]

I guess I would look at it as follows:

1) Go through all of the steps of 4044

2) Compare the percentage of benefit that each HCE and each NHCE would receive.

3) In the unlikely event that each NHCE is getting a percentage that is greater than or equal to each HCE then go ahead and distribute per 4044. This would result in NHCE's receiving a greater percentage than HCE's. (Example 3). No reallocation is needed to prevent discrimination.

4) If the HCE percentages are greater, then see what benefits of the HCE's are in categories 4044(a)(4)(B) or below. If there are no benefits (or only a small amount of benefits) in these categories, then HCE's will actually be receiving a greater percentage benefit than NHCE's because only those benefits at 4044(a)(4)(B) or below can be reallocated to cure discrimination (Example 1)

5) In most instances all benefits are going to be in 4044(a)(4)(B) or below and the HCE percentage is going to be higher than the NHCE percentage. I would think that in many of those instances you are going to end up with a pro-rata allocaiton to prevent discrimination.